What is 'Physical Capital'?

Physical capital is one of the three main factors of production in economic theory. It consists of manmade goods that assist in the production process, for example, machinery, office supplies, transportation and computers.

BREAKING DOWN 'Physical Capital'

In economic theory, factors of production are the inputs required to engage in the production of goods or services in pursuit of profit. Economists have not agreed on the exact delineation of each category; however, they generally agree that there are three main factors of production.

  • Land or natural resources. These factors include the land on which factories, shipping facilities or stores are built and the natural resources of a production process such as the corn needed to make tortilla chips or the iron ore used to make steel.
  • Human capital. This factor includes labor and other resources that humans can provide - education, experience or unique skills - that contribute to the production process.
  • Physical capital. This factor includes manmade goods that enable the production process such as machinery, buildings, computers and other goods needed for the production process to run smoothly.

Physical Capital and Firms

New or startup companies invest in physical capital early in their lifecycle, often before they have produced a single good or secured their first client.  For example, a company that manufactures microwave ovens must make several investments before it can sell a single microwave; the company must build a factory, purchase the machinery it needs to manufacture the product and it must manufacture some sample microwaves before any stores will carry their product.

The accumulation of physical capital with established firms and the associated investment required can pose a significant barrier to entry for new companies, particularly those in manufacturing-intensive industries. The diversification of physical capital is a measure of the level of diversification in a particular industry. From the perspective of physical capital, starting a new law firm is much easier than opening a new manufacturing plant. Theoretically, an attorney would need only an office, a phone and a computer. Consequently, law firms outnumber steel manufacturers by a significant margin.

Evaluating Physical Capital

Experts agree that physical capital is an important consideration in a company's valuation, but it is also one of the most difficult assets to evaluate. Fixed capital, for example, manufacturing machinery, has long-term value and is relatively illiquid because it is usually designed to fulfill a particular purpose. On the other hand, the value of physical capital can change over time or increase in value if the asset itself is upgraded or there are changes to the firm that affect its value.

RELATED TERMS
  1. Capital Goods Sector

    The capital goods sector refers to a grouping if publicly traded ...
  2. Absolute Physical Life

    Absolute physical life is the lifespan of a physical asset, which ...
  3. Capital Investment

    Capital investment refers to funds invested in a firm or enterprise ...
  4. Click And Mortar

    Click and mortar is a type of business model that has both online ...
  5. Physical Delivery

    Physical delivery is a term in an options or futures contract ...
  6. Factor Market

    A factor market is a marketplace for the services of a factor ...
Related Articles
  1. Insights

    Factors Of Production

    Factors of production is an economic term describing the general inputs used to produce goods and services to make a profit. Under the classical view of economics, the factors of production consist ...
  2. Investing

    3 Physically Backed ETFs Worth Your While (GLD, SLV)

    Learn about physically backed ETFs, what they are and how they can help provide your portfolio with pure precious metals exposure.
  3. Investing

    Key Financial Ratios for Manufacturing Companies

    An investor can utilize these financial ratios to determine whether a manufacturing company is efficient, profitable and a good long-term investment option.
  4. Managing Wealth

    Comparing Tangible and Intangible Assets

    Tangible assets are physical assets such as land, vehicles or equipment.
  5. Investing

    Brands Develop Strategies to Counter Amazon

    Retailers are offering incentives to customers to shop at physical stores. Will this affect Amazon's bottom line?
  6. Investing

    Investing In Commodities Without the Hassle: Try Commodity ETFs

    Exchange-traded funds (ETFs) that invest in commodities offer a convenient, low cost way to access the commodities markets.
  7. Personal Finance

    The Seven-Figure Asset You’re Probably Ignoring

    What is human capital and how should it factor into your investment decisions?
  8. Tech

    NYSE Parent Launches Physical Bitcoin Futures Contract

    ICE announced the launch of a new trading platform and futures contract that is settled physically.
  9. Investing

    Top 3 ETFs With Exposure to Palladium (PALL, SPPP)

    Discover why palladium is considered a precious metal, and learn about some of the ETF options that provide investors exposure to palladium.
  10. Investing

    Why Investing in Commodities Can Be Tricky

    While some exposure to commodities can enhance a portfolio, it is key to understand the investment vehicle you've chosen, or you could be in for a rude awakening.
RELATED FAQS
  1. What is 'capital' in relation to the factors of production?

    Find out what economists mean by physical capital, how it contributes to the productivity of labor and why it is a crucial ... Read Answer >>
  2. Why are the factors of production important to economic growth?

    Find out why the factors of production are critical for real economic growth, where wages rise and consumer goods costs fall ... Read Answer >>
  3. What is the difference between a capital good and a consumer good?

    Learn to differentiate between capital goods and consumer goods, determined by how those goods are used, and see why capital ... Read Answer >>
  4. What does low working capital say about a company's financial prospects?

    Find out what it means when a company has low working capital, including how this metric is interpreted based on business ... Read Answer >>
Trading Center